How can you take advantage of these opportunities, and what should you know about distressed mergers and acquisitions?
There are two different types of potential purchasers. First, business owners in a particular industry ought to be out looking for additional businesses in that same industry that may be struggling and have lenders willing to accept a discount on their debt. That will allow the acquiring business to grow by adding sales and ultimately creating a much larger business. Second, it offers private equity firms an opportunity to deploy capital in a segment of the mergers and acquisitions market that is still active.
A buyer needs to be sensitive to the fact that these businesses are not going to be profitable immediately. There is a problem there that needs to be fixed, and a buyer has to approach due diligence with that in mind. Understand what the problem is, how to fix it, how long it will take and how much additional money might be needed, and then factor that into the deal price.
What preparation is needed for distressed mergers and acquisitions?
A buyer needs to identify and analyze the root of the problem with the business it is acquiring. A purchaser goes into the deal knowing that there is a problem that needs to be fixed, but has to identify that problem immediately, analyze the root of it, and determine how to fix it. That is very different than a traditional deal, where a purchaser goes into it assuming that the business is profitable and making money, and just needs to improve the operations or profitability.
There are also additional negotiations that need to occur with other interested parties that do not typically occur in traditional deals. In a traditional deal, a buyer is not terribly concerned about what trade creditors think, because the assumption is that they will be paid in full, and the business will continue to operate with no interruption. It is also assumed that the lender will be paid in full, and it is only a matter of bringing the lender in at the last moment to get the appropriate releases signed.
In a distressed transaction, the assumption is that one or both of those groups will not be paid in full. So the lender may be required to release its claims and security interests for less than 100 percent of what’s owed. It is also possible that the trade creditors to the business are going to be paid less than 100 percent, and therefore have to be brought into the negotiations, whether individually or as a group. These elements impact the way the deal is actually consummated. Is it a straight asset sale, with no judicial oversight, or is it a bankruptcy sale, done through the supervision of the bankruptcy court?
Shawn M. Riley is a managing member at the Cleveland office of McDonald Hopkins LLC (www.mcdonaldhopkins.com). Reach him at (216) 348-5773 or [email protected].